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Inflation Is Rising — and That’s Great

...but for who?
Guild Investment Management (www.guildinvestment.com) is a registered investment advisor located in Los Angeles. The company was founded in 1971 by Montague Guild. We provide fully discretionary investment portfolio management services to U.S. and foreign individuals and companies with personal, pension and IRA accounts. We study the world, do the homework, make strategic asset allocations, and make buy and sell decisions so our clients don’t have to do this work.
Guild Investment Management (www.guildinvestment.com) is a registered investment advisor located in Los Angeles. The company was founded in 1971 by Montague Guild. We provide fully discretionary investment portfolio management services to U.S. and foreign individuals and companies with personal, pension and IRA accounts. We study the world, do the homework, make strategic asset allocations, and make buy and sell decisions so our clients don’t have to do this work.

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All around the world, inflation is heating up, lending more credence to the thesis that the global economy may at last be emerging from the long, slow-growth post-crisis doldrums.

Last week, data were released showing a sharp uptick in consumer prices in Germany. They rose 1.7% year-on-year, the fastest pace since 2013.

Data were also released showing that euro area producer prices continued the breakout from a downtrend that had started in 2011 — finally peeking above zero (that is, out of outright deflation) for the first time since 2013.

Although Japan’s producer price index is still negative, its consumer prices turned positive in October and continued to rise in November, as the Bank of Japan’s governor Haruhiko Kuroda relished a weaker yen and expressed “stronger confidence” in the country’s inflation path.

In the U.S., the minutes of the Federal Reserve’s December policy meeting showed a committee that is alert to the increasing chance that inflation will rise faster than it has been anticipating. (Historically, the Fed has often been behind the curve.)

Analysts point out that some of this upswing in inflation is nothing more than a “basing effect” — that is, that many commodity prices have now lapped their recent steep price declines and are rising only compared to their lows. While this observation is accurate, we don’t believe it’s the whole story. As we have noted many times, we never bought the “secular stagnation” hypothesis; we believe that the economic slow-growth era from which the global economy is beginning to exit was an artifact of the financial crisis and of the high-tax, high-regulation response that the world’s governments made to it — and of the extraordinary monetary policies that central bankers resorted to as their governments shirked their growth-encouragement responsibilities. From another perspective, we could say that commodity prices are stabilizing because the outlook for global growth is improving thanks to a changing policy landscape.

Now, at last, thanks to unexpected political developments, the growth baton seems to be passing from monetary to fiscal policy. In response, inflation — and inflation expectations — are rising.

Those with memories of the 1970s may think inflation is a bad thing. In the present environment, it’s a very good thing. As long as inflation remains on a moderate upward path and as long as economic fundamentals are strengthening — which is how conditions are currently developing — it is bullish for nominal economic growth, and therefore bullish for stocks. It is also bullish for precious metals.

It is, however, decidedly bearish for bonds. As inflation arrives, interest rates will rise from their negative levels in Europe, and bondholders who bought at negative rates will be hurt.

Investment implications: Inflation is on the rise around the world. Skeptics assert that inflation is visible only because of a “basing effect” — that is, because commodity prices are stabilizing and lapping the sharp declines they experienced until early 2016. We disagree, and see fundamental reasons why the global policy sea-change that began in 2016 could help snap the global economy out of its low-growth doldrums. In any event, inflation on a moderate path such as we are now seeing develop is bullish: bullish for nominal economic growth, bullish for stocks, and bullish for precious metals. Bondholders should beware: we believe that in hindsight, we will see that 2016 marked the peak of the 30-year bond rally. Inflation and interest rates will rise.


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